BlackRock Avoids Fed-Depressed Dollar in Carry Trade: Currencies

America’s currency is denting returns for carry traders with the Bloomberg Dollar Index poised to close the year above the 1,000 level for the first time since 2008. Photographer: Susana Gonzalez/Bloomberg

Dec. 11 (Bloomberg) -- The dollar is becoming too expensive
for investors in Asia to use as a source for funding carry
trades in the region, a development that may help extend the
currency’s best annual gain since 2008 into next year.

BlackRock Inc. and Amundi, which together oversee more than
$5 trillion, are considering currencies other than the dollar to
fund trades in Asia that rely on borrowing cheaply in one
exchange rate to buy those of nations with higher interest
rates. Carry trades that sell dollars to purchase a basket of
currencies containing Indonesia’s rupiah and the Thai baht made
0.5 percent this quarter, below the 1.9 percent return for deals
funded by euros and yen.

“It matters what sort of funding currency you pick,” Joel
Kim, the head of Asia-Pacific fixed income at BlackRock, said
this month in Singapore. “It’s going to be more challenging for
Asian currencies to do very strongly against the dollar.”

The greenback is denting returns for carry traders, with
the Bloomberg U.S. Dollar Index poised to close the year above
the 1,000 level for the first time since 2008. The gains have
been fueled by speculation the Federal Reserve will soon trim
its record stimulus measures.

Printing Money

A centerpiece of the policy has been printing dollars that
the Fed then injects into the economy by buying $85 billion of
bonds each month.

Forecasters surveyed by Bloomberg see the U.S. currency
advancing against every Group of 10 peer in 2014. That makes it
less suitable for carry trades, a strategy that has lost
investors the most money this year since 2008, according to data
compiled by Bloomberg.

The Bloomberg Dollar Index, which measures the greenback
against the euro, yen, pound and seven other currencies, was at
1,012.52 at 12:01 p.m. in New York, up from 984.07 in January.
The last time it finished a year above 1,000 was in 2008, when
it rose 8.9 percent. The gauge has risen 2.7 percent this year,
headed for only its second annual gain in five years.

While U.S. policy makers weigh cutting stimulus, their
counterparts in Japan and the euro region have signaled they may
loosen monetary policy further. That boosts their currencies’
appeal as carry-trade funders, said BlackRock’s Kim.

Top Picks

In terms of what currencies to buy in the trades, his top
Asian picks for 2014 are South Korea’s won and the Chinese yuan,
which he predicts will be buoyed by reforms being undertaken by
the world’s second-largest economy. The Bloomberg-JPMorgan Chase
& Co. Asia Dollar Index has fallen 1.6 percent in 2013, paced by
the rupiah’s 18 percent drop and the rupee’s 10 percent slide.

Amundi, which manages 759 billion euros ($1 trillion),
favors buying the won and the rupee, which will benefit from the
rise of India’s pro-business Bharatiya Janata Party, said James
Kwok, the firm’s London-based head of currency management.

For funding the trades, Kwok said he’s considering
switching to the Canadian dollar because of the North American
nation’s relatively low 1 percent benchmark interest rate. The
loonie fell 6.5 percent versus its U.S. counterpart this year.

“A shift to another low-yielding funding currency like the
Canadian dollar will be good for emerging-market portfolios,”
Kwok said in an interview via e-mail on Dec. 4. “The U.S.
economy will continue to outperform the rest of the world, and
therefore the dollar will strengthen.”

U.S. gross domestic product will grow 2.6 percent in 2014
and 3 percent in 2015, compared with 1.9 percent and 2.2 percent
for the G-10, economists surveyed by Bloomberg say.

‘Solid’ Funder

Any Fed tapering will soon be reflected in exchange rates
and the dollar will once again become a “solid” carry-trade
funder, according to Sacha Tihanyi, a currency strategist at
Scotiabank in Hong Kong. Fed Chairman Ben S. Bernanke said last
month the central bank will probably hold down its target
interest rate long after it ends bond purchases.

“The U.S. dollar should gain into the taper, but I suspect
Fed rhetoric will seek to suppress that to some degree and
reiterate the low-rate environment,” Tihanyi said in a Dec. 3
interview. “This could cap U.S. dollar strength.”

Choosing the right funding currency has become all the more
important given the carry trade’s losses in 2013.

Suffering Losses

Deutsche Bank AG’s G-10 FX Carry Basket gauge has fallen
4.9 percent this year, the most since 2008. While the gauge has
recovered some of the losses it suffered from April through
August, it’s still down 25 percent from its peak on the eve of
the global crisis in July 2007. A mid-year spike in volatility
made it more difficult for the strategy to make money.

The dollar had been a profitable way of funding carry
trades because Fed stimulus combined with the zero-to-0.25
percent benchmark rate since December 2008 made it cheap to
borrow in the currency.

Carry trades funded by dollars and buying the basket of
Asian currencies outperformed those using the euro and yen in
the third quarter, declining 1.5 percent compared with a plunge
of 4.1 percent, data compiled by Bloomberg show. The basket
comprises the rupiah, baht, Indian rupee, won and yuan.

“A basket of funding in yen, euro, Swiss franc and
Canadian dollar might be sensible,” Sebastien Galy, a senior
foreign-exchange strategist at Societe Generale SA in New York,
said in a Dec. 4 interview. “There’s a decent chance of more
loosening of monetary policy. The Canadian dollar is an
alternative.”